Moody's Cuts EU Outlook to Reflect Germany, France, UK Risks

The European Union’s outlook was cut to negative by Moody’s Investors Service, reflecting the risks to Germany, France, the U.K. and the Netherlands that account for about 45 percent of the group’s budget revenue.

The ratings company lowered the outlook on the EU’s Aaa long-term bond rating from stable, according to a statement released in Frankfurt late Monday. It also changed to negative from stable its outlook on the provisional Aaa rating for the EU’s medium-term note program.

The change “reflects the negative outlook on the Aaa ratings of the member states with large contributions to the EU budget,” Moody’s said. “The creditworthiness of these member states is highly correlated, as they are all exposed, albeit to varying degrees, to the euro-area debt crisis.”

Chancellor Angela Merkel told a crowd of beer drinkers in Bavaria Monday that Germany must show solidarity with Europe, and indicated she would back a more active crisis-fighting role at the European Central Bank. Her nation shoulders the largest cost of bailing out weaker governments.

Risks of a downgrade to the EU’s sovereign debt rating come from a “deterioration in the creditworthiness of EU member states,” Moody’s said. “Additionally, a weakening of the commitment of the member states to the EU and changes to the EU’s fiscal framework that led to less conservative budget management would be credit negative.”

Draghi’s Plan

ECB President Mario Draghi told officials Monday he would be comfortable buying three-year government bonds to bring down borrowing costs for nations in financial distress.

European leaders are stepping up shuttle diplomacy this week as they brace for Draghi’s plan to defend the euro from bond-market turmoil. EU President Herman Van Rompuy is traveling to Berlin for talks with Merkel today as Italian Prime Minister Mario Monti welcomes French President Francois Hollande to Rome.

The yield on Italian 10-year bonds declined 8 basis points yesterday to 5.77 percent. That was still 439 basis points more than the yield on similar maturity German bunds. Spain’s 10-year bonds were yielding 6.85 percent, near the 7 percent level that led Greece, Portugal and Ireland to seek bailouts.

“The outlook for the EU’s ratings could return to stable if the outlooks on the ratings of the key Aaa countries with contributions to the EU budget also returned to stable,” Moody’s said of the 27-member group.

Draghi faces challenges in winning support among the German public for market intervention. Germany reiterated its support Monday for Bundesbank President Jens Weidmann, following reports last week that he had considered resigning over his opposition to ECB bond purchases.

“Moody’s believes that it is reasonable to assume the same probability of default by the EU on its debt obligations as the highest rated key members states’ probability of default,” according to the statement. “Whereas Moody’s acknowledges that there are structural features in place that enhance the EU’s creditworthiness, they are in Moody’s view not sufficient to delink the EU’s ratings from the ratings of its strongest key member states.”